What happens to the relationship between EU allowances prices and stock market indices in Europe?

Abstract

The stock market may reflect the economic conditions of an economy and a positive economic situation is expected to improve the companies' profits, which makes company shares more attractive since the expected dividends to shareholders will be larger. Theoretically, higher economic activity leads to higher energy demand and, consequently, higher carbon emissions, which give rise to higher EU allowances (EUA) prices. Therefore, the stock market and EUA prices seem to be connected, with causality going from the stock markets to EUA prices. This paper formally tests for it, showing that the causality effectively runs from the stock market to the European Climate Exchange market. Furthermore, the paper studies the effects of the evolution of European stock markets on the EUA spot prices.